Acquirers make their money at three moments: when they set the thesis, when they price the deal, and in the first 100 days after close. Everything in between is execution, and execution rarely rescues a mistake made at any of those three points.
This chapter is for the people doing the buying: individual acquirers, search-fund principals, independent sponsors, corporate development teams working their first add-on, and junior private equity professionals who know the model but not yet the mess. Owners should read it too. Nothing sharpens a negotiation like seeing exactly how the other side builds its numbers.
Thesis Before Targets
The costliest sentence in acquisition search is “I’ll know it when I see it.” Acquirers who search without a written thesis evaluate everything and buy nothing, or worse, buy the first plausible business that flatters them with an accepted offer. Two years into an unfocused search, the typical result is a folder of half-analyzed CIMs (the confidential information memoranda advisors prepare), a reputation among intermediaries as a tire-kicker, and no pattern recognition, because patterns require comparable deals.
A workable thesis fits on one page and answers four questions. First, size: what EBITDA range can your capital actually support once realistic leverage is applied? The financing section below gives you the arithmetic. Second, sector: where do you have an edge, from operating experience, industry relationships, or a repeatable improvement you know how to make? “Fragmented industry with recurring revenue” is not an edge; every acquirer in the market says it. Third, geography: where will you actually show up, because lower-middle-market companies are run in person. Fourth, owner situation: are you built for the retiring founder with no successor, the burned-out operator, the corporate orphan? Each implies a different deal shape and a different transition plan.
The thesis also tells intermediaries how to remember you: a one-line answer to “what are you looking for” puts you on the first-call list, while “we’re opportunistic” gets you the leftovers.
Then there is deal flow, and the choice between its two channels is a real trade. Intermediated deal flow, companies represented by an advisor, arrives pre-qualified: the owner has genuinely decided to sell, the numbers are assembled, a data room exists, and the process has a calendar. The price of that readiness is competition. You will pay something close to market, and you will run on the sell side’s timeline, which Chapter 10 describes from the other side. Proprietary deal flow, direct outreach to owners not in market, offers the opposite trade: less competition and sometimes a better entry multiple, in exchange for long odds and longer timelines. Most owners you approach are not sellers. Many who engage have never seen a normalized EBITDA figure or a market multiple, and the expectation gap kills the deal in month six rather than week one. Unrepresented deals also die more often in diligence, because nobody prepared the company for it. In our experience the “proprietary discount” shrinks considerably once you price your own time and the deals that collapse. Run both channels if you can staff them; just do not fool yourself about the economics of either.
Underwriting: Rebuild the Numbers Yourself
Chapter 6 explained how owners build adjusted EBITDA. Underwriting is that chapter run in reverse. The CIM’s adjusted number is an advocacy document prepared by professionals whose job is to present the business at its best. Your job is to rebuild earnings from the raw material: strike the add-backs that would not survive a quality of earnings (QoE) review, restore the costs the adjustments quietly removed, and add the costs of running the business without its owner. If the owner pays herself $60,000 for a job that costs $180,000 to fill, that delta is not an add-back; it is a subtraction. If rent is below market because the owner owns the building, normalize it up. If capex has been starved for three years, the catch-up spend belongs in your model even though it will never appear in anyone’s EBITDA.
Then build two cases, not one. The base case is what you would bet your equity on: customers behaving the way the cohort data says they behave, market-rate management costs, growth you can defend. The downside case removes the largest customer, loses one key employee, and compresses gross margin a few points. The test is not whether the downside case is pleasant; it is whether the business still services its debt. If the deal only works in the CIM’s case, you are not buying a company. You are buying a story.
The sharpest underwriting tool is the “what must be true” test. Invert the price: at the multiple you are being asked to pay, what retention, what margins, and what growth are you implicitly underwriting? Then ask whether the evidence supports each one. Chapter 9’s nine KPIs, written there as an owner’s value-building checklist, work unmodified as an underwriting checklist: read each section in reverse and locate the target on evidence rather than management commentary. Concentration and key-person dependence deserve particular respect, because they are the two risks that convert quietly into catastrophes. A top customer at 30% of revenue is not a 30% problem; it is a covenant-default problem.
Key point. Buy the base case, not the CIM case. If the price only pencils on the seller’s adjusted EBITDA and projected growth, either the price is wrong or the deal is not yours.
Financing the Acquisition, Structure by Structure
Financing is where acquirer discipline becomes visible, because the capital stack determines both what you can pay and how much shock the business can absorb after close. Start with the cost of money. As of mid-2026, the federal funds target range stands at 3.50% to 3.75%, held steady at the June 2026 FOMC meeting, with overnight SOFR around 3.7%. Floating-rate acquisition debt priced at SOFR plus 400 to 600 basis points still carries all-in costs in the high single digits, and every point of interest cost flows directly into what an acquirer can pay. Model debt service at today’s rates plus a cushion, not the rates you hope for.
SBA 7(a) loans
For individual acquirers and self-funded searchers, the SBA 7(a) program is the workhorse, because it lets banks lend against goodwill and cash flow at the small end of the market where conventional credit is thin. SBA 7(a) loans top out at $5 million, with the SBA guaranteeing 75% of the loan (85% for loans of $150,000 or less). That guarantee is why a bank will finance most of the purchase of an intangible-heavy services business it would never touch on a conventional basis.
The rules tightened in 2025, and every acquirer should know them cold. Under the SBA’s SOP 50 10 8, effective June 2025, acquisition loans require at least a 10% equity injection, and a seller note counts toward that injection only if it sits on full standby, meaning no payments of principal or interest, for the life of the loan, and only for up to half of the injection. Translate that: at least half the injection must be real cash from you and your investors, so plan on writing a check for at least 5% of total project costs even in the most seller-financed structure, and understand that an owner asked for a standby note is being asked to wait the life of the loan before seeing a dollar of it.
Two further rules matter for anyone contemplating a partial deal. Partial changes of ownership in which the owner retains equity must be structured as equity purchases rather than asset purchases, and an owner who retains less than 20% must personally guarantee the loan for at least two years. Owners tend to discover both requirements late and unhappily; acquirers who raise them early look prepared. And note a ceiling change: in May 2026 the SBA doubled the cumulative 7(a) and 504 borrowing limit per business to $10 million, though the single-loan 7(a) cap remains $5 million. For a buy-and-build strategy financed loan by loan, the runway is now twice as long, but no single acquisition can borrow more than $5 million through the program.
Where SBA works: deals small enough that a $5 million loan, your injection, and a seller note cover the price, which in practice means total consideration up to roughly $6-7 million. Where it caps you out: anything larger, and any acquirer unwilling to sign the full personal guarantee the program requires. That guarantee is not a formality: you are pledging your personal balance sheet to the thesis, which is why SBA lenders read downside cases carefully, and why you should too.
Conventional senior debt
Above the SBA band, banks and non-bank lenders make cash-flow loans underwritten to the business rather than to a government guarantee. Leverage norms move with credit conditions, but lower-middle-market senior lenders commonly advance in the range of two to three turns of EBITDA, more for larger businesses with contractual revenue, less for cyclical, concentrated, or project-based ones. Expect amortization commonly over five to seven years, a fixed-charge coverage covenant, a leverage covenant, and, at the smaller end, sometimes a personal guarantee anyway. The covenant package deserves as much attention as the rate: a cheap loan with a tight fixed-charge test becomes expensive the first bad quarter.
Mezzanine and unitranche
Between senior debt and equity sits junior capital. Mezzanine is subordinated debt, commonly priced in the low-to-mid teens all-in and sometimes carrying equity warrants; it exists to stretch the stack when senior leverage and equity together cannot reach the price. Unitranche collapses senior and junior into a single blended facility with one lender and one covenant package, and it appears mostly at the larger end of the lower-middle market. For a first acquisition, treat junior capital with caution: it buys a higher price today at the cost of exactly the cushion you will want in year two.
Seller financing
The seller note is the lower-middle market’s native instrument, and it exists for three honest reasons. It fills the gap where third-party credit is thin at this scale. It signals the owner’s confidence in her own numbers, which is why acquirers and lenders read a meaningful note as underwriting evidence. And it keeps the owner attentive through transition, because part of her price now depends on the business she handed you continuing to perform.
Terms are negotiated deal by deal, but notes commonly run three to seven years at interest rates in the high single digits, subordinated to the senior lender. Subordination is the part first-time parties underestimate. The senior lender will require the note to stand behind its loan, will typically block payments on it during a covenant default, and, where the note counts toward an SBA equity injection, will require the full standby described above. An owner who thinks of her note as a bond should be told plainly that it behaves more like preferred equity with a maturity date.
Equity
Equity is whatever the debt will not cover, and where it comes from shapes both your economics and your governance. Self-funded acquirers keep the upside and carry a concentration of personal risk that calls for a frank conversation at home before it gets a lender’s signature. Traditional search funds raise committed capital from investors who fund the search itself and hold rights to invest in the eventual deal; the model trades a substantial share of the upside for backing, mentorship, and credibility with intermediaries. Independent sponsors raise equity deal by deal, typically earning a closing fee, a management fee, and a promote on investor capital. The structure works, but it carries the financing contingency that owners and advisors have learned to discount: a letter of intent from a sponsor without committed capital is a well-dressed maybe. If you operate this way, answer the skepticism with evidence: a named equity partner, a letter from a fund that has closed with you before, and a lender already in underwriting.
The stack on a $10 million deal
The table below shows an illustrative capital stack for a $10 million purchase of a company with $2 million of adjusted EBITDA (a 5.0x multiple), financed conventionally, since the price exceeds the SBA’s single-loan cap.
| Layer | Amount | % of price | Illustrative pricing | Leverage |
|---|---|---|---|---|
| Senior term loan | $4.0M | 40% | SOFR + 5.00%, 7-year amortization | 2.0x EBITDA |
| Seller note | $1.5M | 15% | 8%, subordinated, interest-only | 0.75x EBITDA |
| Acquirer equity | $4.5M | 45% | Acquirer and investor cash | n/a |
| Total | $10.0M | 100% | 2.75x total debt |
Note that this stack funds the purchase price only. Transaction costs (QoE, legal, lender fees) and day-one working capital sit on top of it, and the equity check has to cover them.
Illustrative example. On the stack above, the senior loan at roughly 8.7% all-in costs about $790,000 a year in principal and interest on a seven-year amortization, and the seller note about $120,000 in interest: roughly $910,000 of total debt service against $2 million of EBITDA, or about 2.2x coverage before taxes and capex. Now run the downside: if the largest customer leaves and EBITDA falls to $1.4 million, coverage drops to about 1.5x, thin but survivable. That surviving margin is what “cushion” means, and a disciplined acquirer checks it before signing a letter of intent.
The Letter of Intent from the Buy Side
In a competitive process, price gets you into the conversation; certainty wins it. Chapter 10 shows the machinery from the owner’s side: advisors screen every letter of intent (LOI) for closing risk as hard as for headline value, and a well-run process will choose a demonstrably financed offer over a higher number wrapped in contingencies. Speed and certainty are currency. Spend them deliberately.
A credible buy-side LOI does four things. It names the money: the lender and its underwriting stage, the equity source and its commitment status, with term sheets or proof of funds attached rather than described. It states a diligence plan: the workstreams, the providers, and a dated timeline, because “60 days of exclusivity” means something different coming from an acquirer whose QoE firm is already engaged. It commits to structure, not just a number: cash at close, any seller note or earnout, the approach to working capital, and the owner’s transition role. “Customary terms to be negotiated” reads, correctly, as “I have not thought about this yet.” And it asks only for the exclusivity it has earned. From the owner’s chair, exclusivity is the moment leverage changes hands, so treat the request as a purchase and preparation as the currency: commonly 45 to 75 days at this scale, with extensions tied to demonstrated progress rather than a 120-day runway granted on faith.
One rule admits no exceptions: never bid a number you intend to retrade. The lower-middle market is small, advisors keep lists, and a retrading reputation follows you into every process you enter for the next decade. The definitive agreement that follows the LOI, with its reps, indemnities, and escrows, is Chapter 13’s territory.
Diligence: Protect the Thesis First
Buy-side diligence fails less often from too little effort than from undifferentiated effort: 400 document requests pursued with equal energy, none of them resolving the two or three questions the deal actually turns on. Sequence by kill-risk. If the thesis is recurring revenue, cohort retention data comes first. If the thesis is the plant, the equipment condition assessment and the deferred-capex estimate come first. Settle the deal-breakers before funding the deal-decorators.
Commercial diligence at this scale means customer conversations, and they must be handled with care, because a clumsy call can damage the company you are about to own. They happen late in diligence, with the owner’s consent and usually her participation, framed as planning conversations rather than announcements. Where direct calls are too risky, triangulate: contract renewal history, reorder patterns, concentration trends, and complaint logs tell most of the same story.
Commission a QoE review on every deal, including the small ones where it feels like overkill. Proof of cash and add-back verification are cheap relative to what they protect, and in our experience the findings that reprice deals tend to surface in a QoE’s first two weeks. Finally, keep the discipline to walk. By late diligence you have spent real money and months of your life, and the sunk-cost pull is strongest exactly when the evidence turns worst. Write your walk-away conditions into the thesis before the LOI, then obey them. Broken-deal costs are tuition. Acquirers are made by the deals they refuse.
Integration and the First 100 Days
At most lower-middle-market targets, the owner is not just the chief executive. She is the brand, the top salesperson, the underwriter of every big quote, and the reason the best technician has stayed for 15 years. Integration planning that starts after close is therefore already late. Before signing, you should know which relationships the owner personally holds, which decisions only she makes, and what the transition arrangement obligates her to do: real scope, real hours, real incentives, not a courtesy consulting agreement nobody intends to use.
The first 100 days have one governing rule: do not break the machine you just bought. With employees, show up in person on day one, tell the truth about what changes and what does not, and answer the two questions everyone is silently asking, about their pay and their job, before you present a vision slide. Find the two or three people who actually run the place; the org chart will not tell you who they are. With customers, make joint introductions alongside the owner during transition, and do not reprice inherited relationships until you understand why they are priced the way they are. With systems, quick wins are welcome: fix the underinvestment everyone complained about, correct the obvious pay inequity, buy the second truck. Rip-outs are not. ERP migrations, rebrands, and compensation overhauls belong in quarter three or later, once you know what the old system quietly does all day.
The business also probably drifted while the owner ran the deal instead of the company; reversing that drift is your first quarter’s job, not redesigning the machine that produced the earnings you just paid for.
The Five Mistakes First-Time Acquirers Make
The same failures recur so reliably that they can be cataloged in advance.
Paying for adjusted EBITDA nobody verified. The CIM number priced the deal, no one commissioned a QoE, and the gap between adjusted and actual surfaces in year one, when it is your problem and your lender’s question. The remedy costs a small fraction of the mistake.
Underestimating day-one working capital. A cash-free, debt-free deal hands you a business that needs cash immediately: payroll, inventory, and the weeks before receivables collect. If the equity check covered only the purchase price, the first quarter becomes a liquidity scramble conducted in front of your new employees and your new lender.
Common pitfall. An acquirer sizes the equity check to the purchase price, wires it at close, and discovers that payroll runs Friday while receivables collect in 45 days. The scramble that follows, an emergency line drawn at bad pricing or a capital call to startled investors, was fully predictable from a working capital cycle the data room disclosed all along.
Skipping commercial diligence. Financial diligence tells you what happened; commercial diligence tells you whether it keeps happening. Acquirers who buy from the spreadsheet alone meet their real customer relationships for the first time after close, sometimes on the way out the door.
Financing with no cushion. The maximum-leverage stack wins the auction and loses the first soft quarter, when a covenant default hands the narrative, and some of the decisions, to the lender. Structure so the downside case still services the debt; the worked example above shows the ten-minute check.
Alienating the owner. Win the last $200,000 in the final negotiation and you can lose the transition: an owner who feels ground down performs her consulting agreement to the letter and not an inch further, and the relationships, history, and employee trust she carries walk out with her. In most lower-middle-market deals the owner is your most important employee for the next year. Negotiate like it.
The Bottom Line
- A written thesis covering size, sector, geography, and owner situation is the difference between a search and a wander; intermediated deal flow costs more and closes more, and the proprietary discount shrinks once you price your time.
- Rebuild EBITDA yourself, price your base case rather than the CIM’s adjusted number, and confirm the downside case still services the debt before you sign anything.
- SBA 7(a) lending caps at $5 million per loan ($10 million cumulative per business since May 2026), and the SOP 50 10 8 rules on equity injection and standby seller notes dictate structure at the small end; above that band, the standard stack is two to three turns of senior debt, a subordinated seller note, and real equity.
- In competitive processes certainty is currency: a credible LOI names its lender, its diligence plan, and its timeline, and asks only for the exclusivity it has earned.
- Diligence exists to resolve the two or three risks that would kill the thesis; commission a QoE on every deal and keep the discipline to walk.
- The first 100 days are for earning employees, keeping customers, and not breaking the machine; the owner you just negotiated against is now your most important employee, so structure and behave accordingly.